Our last update on silver back in January proved to be pessimistic in suggesting that silver may go no further than $11.30 before entering the first meaningful correction. As it turned out, $15.18 was the ultimate high as the metal surged against the meagre expectation of many an analyst.

Now that the first up leg of this move is over, we take a look at where the silver correction lies as well as take an interesting look at recent strange behaviour on the Comex silver warehouse stocks.

The intraday chart below first tells me one important fact from an Elliott wave perspective - the correction is over for a while and may have even hit it lowest point (though that is less certain). From the chart we see that silver dropped $3.26 from its 22 year high to a low of $11.92. So far, silver has staged a rally to a maximum of $13.39. Using our standard Fibonacci retracements for this current rally, 38.2% takes us to $13.16, 50% to $13.55 and 61.8% to $13.93. So far, silver has edged up just 14c below the 50% retracement.

The main point however, is the fact that the initial drop from $15.18 to $11.92 was not the dreaded impulse wave. If it was, we could have expected further serious downward action. The wave structure does not dictate such an interpretation and this was confirmed when silver rallied beyond $12.80 on the 23rd May (marked "W?"). Why is this so? If the wave marked "W" on the 15th May had been the end of an impulse wave 1 then the current rally would not have been allowed to breach that price (In Elliott-speak, wave 4 cannot enter wave 2 territory - note the horizontal line).

To this we can add the fact that the diagonal down trend line was broken on the 23rd May. So we enter this correction with a degree of confidence.

I have tentatively interpreted the down wave as a WXY double zigzag which itself forms a larger W formed at $11.92. That means we are probably in a further X wave which may end anytime soon to be followed by a final Y wave. I have marked the "W?" and "X?" as possible sub waves of this X wave.

This final Y wave may take us below the $11.92 low of 21st May, that is what the statistical probabilities suggest, but it all depends how high the current rally goes. So far, the maximum rally appears to be $13.93.

Now while all this perturbation in the silver market was going on, interesting events were transpiring in the silver warehouses of the COMEX. The question is why silver warehouse stocks have plummeted in the last few days? From a recent high of 129 million ounces in early March, stocks dropped gradually to just under 125 million ounces before suddenly and precipitously dropping 14 million ounces or more than 10% in a matter of days. The graph is shown below with the COMEX total in yellow and it is superimposed with the silver price. The current COMEX warehouse numbers can be found at this link.

Is there a relationship here between the sudden drop in the COMEX stocks and a similar drop in the spot price of silver? Shouldn't an evident drop in visible above ground supplies suggest to investors that silver supplies are tightening and hence encourage a price rise rather than a price fall?

Or is something more mysterious at work? Did the shorts that were facing ever-increasing losses open the warehouse doors and dump millions of ounces of silver on the markets? It's an interesting theory and a look at silver lease rates suggests that something desperate was going on.

We note that lease rates began to rise sharply on the 2nd May. The total silver COMEX stocks on that day were 123,627,373 ounces and then stayed in a tight range for 10 days before silver prices plunged. Did the shorts rent out nearly 19 million ounces of silver with the express purpose of dumping it on the market and then buying it back at a cheaper price? If you are going to borrow 19 million ounces of silver, lease rates have to jump and jump they did!

Or is there a more benign explanation? How much of these 19 million ounces of outgoing silver ended up in the hands of the Barclays Silver ETF destined for their London vaults? The ETF started trading on April 28th this year and has so far accumulated nearly 70 million ounces and 19 million ounces goes some way to building that stockpile.

However, the fact that this sudden and sharp drop in the COMEX silver stocks almost exactly coincides with a 21% drop in the price of silver does make one wonder. If the silver was merely being shifted to another vault, it should not have caused a sudden price drop.

We would say this, if the silver warehouse stocks begin to climb back up sharply and soon after this anomaly, we may infer that someone somewhere is buying back their short positions and "reloading the gun". If the stocks stay low, we know we have a continually tightening supply situation.

If this slide in warehouse stocks continues, the COMEX will be out of silver by the end of the year. We don't think that will happen, but it sure is fun to think about it!

Either way, it's bullish for silver.

The equivalent gold and COMEX update will follow for subscribers.

Roland Watson writes the investment newsletter The New Era Investor that can be purchased for an annual subscription of $99. To view a sample copy of the New Era Investor newsletter, please go to www.newerainvestor.com and click on the "View Sample Issue Here" link to the right.

Comments are invited by emailing the author at newerainvestor@yahoo.co.uk.